Analysis of QE3 and its Impact on India

QE3

The recent announcement by the US Federal Reserve to buy US treasuries and mortgage bonds worth $40 billion a month, led to positive gains in the stock market indices around the world. The phenomenon also termed as Quantitative Easing 3 or QE3 resulted in heavy gains around the world, especially the Indian economy where the Sensex and Nifty jumped more than 2% each. QE3 is the third initiative taken by the US Federal Reserve in the past 4 years to improve liquidity. This measure also helps the US economy to grow by lowering interest rates. Money which the banks get by selling Mortgage Backed Securities (MBS), at artificially low interest rates finds its way into commodities and emerging market equities such as India where returns are much higher.

Impact of QE3 on Indian Markets

QE3 involves a purchase of $40 billion worth of securities a month. It is difficult to estimate the amount of money which will be invested in the Indian economy, but going by the historical trend it is expected that huge amount of money will actually be invested in the Indian markets. If we talk about the effects we will see that the commodity prices will increase which will add to the inflation and will also increase the subsidy burden. Due to the weak policies prevailing in the economy, the increased subsidy will result in higher fiscal deficit. It is expected that the rise in Diesel price and also the divestment of 4 PSU will help the Indian economy reduce its ever expanding fiscal deficit level. By now it is very well understood that the Indian economy at the end, is a net loser from the Quantitative Easing policy and the QE policy is popular with the central banks of the West.

Recent efforts taken by the government to reign in the deficit by raising diesel prices and disinvestment in PSU’s will have less impact if Oil prices begin to increase again. If the current trends are followed the price of Oil and Gold are sky high reaching whooping 117$ and 1770$ respectively. Further the announcement of QE version 3 is a clear indication that the objective of the central bank was not achieved in the past and the previous two versions of Quantitative Easing namely QE1 and QE2 failed to deliver according to the expectation.

Rising Unemployment, Inflation & Interest Rates in US will surely affect the Indian Economy

If we talk about the unemployment rate in the US, we see the level has stayed well above the 8% mark for a long time. Inflation is not much of a problem for the US economy, but there are worries of inflation rising on account of implementation of such expansionary monetary policies. Rising inflation due to such monetary policy will force Fed to raise rates before its stated year of 2015, which will surely be a concern for the Indian economy. Rising interest rate in the US economy will lead to the outflow of money from the Indian economy, as the investors will be withdrawing money invested in India to cover losses at home. This outflow will not only affect the Indian stock market but will also affect the Rupee to a great extent at the International level.

Conclusion

To conclude I will say that Quantitative Easing might sound easy as a phenomenon for short term growth, but over the long term the policy will be a bane for the Indian economy which is in its nascent stage of growth currently as compared to US.

Niraj Satnalika

Niraj is an MBA in International Business (Finance). Prior to this he completed B.Tech in Electronics and Instrumentation. He is currently working with Confederation of Indian Industry (CII), Kolkata in capacity of Consultant.
Satnalika is actively involved with an NGO and works towards promoting education among the underprivileged.